Centre for Research on Globalisation and Labour Markets, School of Economics,University of Nottingham

The Centre acknowledges financial support from The Leverhulme Trust underProgramme Grant F114/BF

CENTRE FOR RESEARCH ON GLOBALISATION AND LABOUR MARKETS

Research Paper 2000/5

The Impact of Mergers and Acquisitionson Company Employment in the United

Kingdom

by

M. Conyon, S. Girma, S. Thompson and P. Wright

The Authors

Martin Conyon is Reader and Head of the Corporate Performance Research Unit in Warwick

Business School, Sourafel Girma is Research Associate in the Leverhulme Centre for Research

on Globalisation and Labour Markets (GLM), Steve Thompson is Professor in Economics in

the Department of Economics, University of Leicester, and Peter Wright is Lecturer in the

School of Economics, University of Nottingham.

Acknowledgements

The authors acknowledge financial support from the Economic and Social Research Council

under grant number R000221779.

The Impact of Mergers and Acquisitions on Company Employment in the

United Kingdom

by

M. Conyon, S. Girma, S. Thompson and P. Wright

Abstract

This paper provides a systematic empirical analysis of the effects of take-over and merger

activity on firm employment in the United Kingdom using a specially constructed database for

the period 1967-1996. Our results indicate that significant rationalisations in the use of labour

occur as firms reduce joint output and increase efficiency post-merger. These effects are

particularly pronounced in the case of related and especially hostile mergers.

Outline

1. Introduction

2. The Impact of Mergers on Employment

3. Employment Determination

4. Database Construction and Sample Characteristics

5. Results

6. Conclusions

Non-Technical Summary

A popular view is that merger and acquisition behaviour inevitably leads to, and indeed is motivated by,

the possibility of drastically downsizing the workforce. Within the economics literature this view has been

given expression in the notion of ‘breach of trust’ which argues that an important reason for merger

activity is the opportunity that it offers owners to renege on implicit and explicit labour contracts. Merger

activity of this form has implications for corporate governance. Whilst shareholders may gain from such a

breach of trust, other stakeholders will suffer and the net consequences are far from clear. Furthermore

there may be systemic costs if the destruction of trust inhibits subsequent investment in job specific

human capital by employees. Such a view has been used to argue for legislation, which would directly or

indirectly restrict take-over and merger activity. It also raises issues for the development of any European

Union policy towards a harmonisation of merger behaviour across member states. There is a considerable

disparity between countries, such as the UK, which have an exit based governance system, in which the

ultimate discipline over managers lies in the shareholder's ability to sell control rights to the highest bidder,

and those continental countries, most notably Germany, where the voice of stakeholder groups determines

corporate control. In the former case hostile take-overs are commonplace in the latter they are almost

unknown. Any move towards harmonisation necessarily needs to be informed by empirical evidence on the

actual consequences of take-over activity for the economy.

The purpose of this paper is therefore to provide a systematic empirical analysis of the effects of different

types of take-over and merger activity on firm employment in the UK. To this end the paper uses a unique

data set which contains information on the population of UK firms for the period 1967 to 1996, with

information on in excess of 400 mergers. This is the largest UK data set on merger activity so far

constructed. This sample is of particular interest as it includes the merger waves of the 1980s and early

1990s which are excluded from earlier studies. It presents the results of estimating labour demand

functions which, by controlling for changes in wages or output that may occur post merger, allow an

assessment to be made of the efficiency inducing impact of acquisitions. It examines not just the

immediate impact of mergers on employment, but also the adjustment process through time. It therefore

allows some assessment to be made of the growth inducing (or otherwise) effect of merger activity. The

paper finds that mergers do indeed induce efficiency in the use of labour with this effect being particularly

pronounced for related and hostile acquisitions. The results are also indicative of there being substantial

efficiency effect variations across the sample, with smaller acquirers tending to show greater labour

demand falls than their larger counterparts. The statistical analysis also indicated significant falls in output

post-merger. This is consistent with the high levels of post-merger voluntary divestment reported for large

UK firms for this period.

1

1 Introduction.‘General Accident and Commercial Union's £14.1bn merger will create one of Europe's

biggest insurance and asset management groups…..The two UK-based groups, which

began formal talks two months ago, said 5,000 jobs would be lost over two years out of a

workforce of 53,000, with 60 per cent of the losses in Britain, where 21,000 are employed.

…….The job cuts will fall across the entire country, but London will be more heavily hit

than either Perth or York, where the GA's fast-growing life operations are headquartered.

Considerable savings will be derived from switching to common information technology

systems.’ Financial Times, February 26th 1998.

The purpose of this paperi is to provide a systematic empirical analysis of the effects of take-

over and merger activity on firm employment amongst a large sample of UK firms. A

popular view is that such merger and acquisition behaviour inevitably leads to, and indeed is

motivated by, the possibility of drastically downsizing the workforce. Within the economics

literature this view has been given expression in the notion of ‘breach of trust’ (Shleifer and

Summers, 1988) which argues that an important reason for merger activity is the

opportunity that it offers owners to renege on implicit and explicit labour contracts.

Merger activity of this form has implications for corporate governance. Whilst shareholders

may gain from such a breach of trust, other stakeholders will suffer and the net

consequences are far from clear. Furthermore there may be systemic costs if the destruction

of trust inhibits subsequent investment in job specific human capital by employees (Blair,

1995). Such a view has been used to argue for legislation, which would directly or indirectlyii

restrict take-over and merger activity. It also raises issues for the development of any European

Union policy towards a harmonisation of merger behaviour across member states. There is a

considerable disparity between countries, such as the UK, which have an exit based governance

system, in which the ultimate discipline over managers lies in the shareholder's ability to sell

control rights to the highest bidder, and those continental countries, most notably Germany,

where the voice of stakeholder groups determines corporate controliii. In the former case hostile

take-overs are commonplace in the latter they are almost unknown. Any move towards

harmonisation necessarily needs to be informed by empirical evidence on the actual consequences

of take-over activity for the economy.

2

The empirical evidence relating to the employment impact of mergers and acquisitions is

extremely limited. Brown and Medoff (1988), who conduct an econometric study for a large

sample of firms in Michigan for the period 1978-1984, suggest that the impact of ownership

change on employment depends on the type of acquisition being considered. Whilst asset

only sales lead to a 5% decrease in employment, simple sales (where a firm changes

ownership without being integrated into the acquiring firm) and true mergers (where the

acquired and the acquiring firm combine to form a new entity) lead to increases in

employment. The generality of their conclusions are open to question however. By

concentrating on a single US state, Brown and Medoff (1988) exclude interstate acquisitions

that dominate large-scale take-overs. They are also unable to distinguish between hostile and

friendly acquisitions. Lichtenberg and Seigel (1992) further argue that it is important to

distinguish between the type of worker considered. They find that whilst ownership change

reduces employment in central offices there is little impact on production workers.

The aim of this paper is to shed additional light on the impact of mergers and acquisitions

using employment data for the United Kingdom. To this end it uses a unique data set which

contains information on the population of UK firms for the period 1967 to 1996, with

information on in excess of 400 mergers. This is the largest UK data set on merger activity

so far constructed. This sample is of particular interest as it includes the merger waves of

the 1980s and early 1990s which are excluded from earlier studies. The focus on labour

market consequences in this paper also contrasts with other UK studies of mergers, which

have typically focused on product market and capital market issues.iv It presents the results

of ceteris paribus derived labour demand functions which, by controlling for changes in

wages or output that may occur post merger, allow an assessment to be made of the

efficiency inducing impact of acquisitions. Further, by using a dynamic panel estimation

procedure it is possible to examine not just the immediate impact of mergers on

employment, but also the adjustment process through time. It therefore allows some

assessment to be made of the growth inducing (or otherwise) effect of merger activity.

The organisation of the paper is as follows. Section two discusses rival theories relating to

the motivations of mergers and their consequent impact on corporate employment. Section

three details the econometric modelling strategy with section four discussing the database

3

construction and characteristics. Section five then presents the estimation results. Finally

section six concludes and offers some implications to guide policy in this area.

2 The Impact of Mergers on Employment

It is difficult to extract strong predictions about the employment consequences of acquisition

activity from the extensive literature on merger theories. Whilst it seems reasonable to

assume that mergers instituted by profit-maximising managers are more likely to be followed

by cost savings and employment losses than those undertaken by managers anxious to

empire build or dissipate free cash flow (Jensen, 1986), the actual employment outcome

would appear to depend on the complementarities between the merged entities and on the

post-merger market position. Nevertheless, certain conjectures relating post-merger

employment to merger type may be advanced: First, employment losses appear likely to be

more substantial in horizontal mergers than in vertical or unrelated cases, particularly where

the industry exhibits substantial economies of scale and/or surplus capacity (Dutz, 1989);

Second, where vertical mergers are undertaken to reduce transactions costs (Williamson,

1975) the result is likely to be employment reducing unless the gains resulting from cost and

price reductions are sufficient to offset job losses in the sales function of the upstream firm

and the procurement function of the downstream party.

Where the transaction involves an unrelated acquisition the outcome is particularly

problematic. As noted above, if an unrelated acquisition is made by managers primarily

motivated by the desire for diversified firm earnings and a reluctance to disgorge free cash

flow there will be no presumption of job losses. However, if the transaction is seen as a

disciplinary one in which the market for corporate control operates so as to divert assets into

the hands of more diligent or talented managers, in the manner suggested by Manne (1965),

cost economies and labour savings may realistically follow. Finally, it has been argued, since

Williamson (1963), that some managerially controlled firms depart from cost-minimisation as

managers indulge their preferences for particular expenditures, especially labour. Where such

management teams are able to use the takeover process to acquire control over additional

assets, whether these are related to the acquirer’s core activity or not, it seems not

unreasonable to expect that additional opportunities will arise to indulge expense-preference

behaviour (Edwards, 1977). Conversely, should such management teams be displaced during

4

the takeover process it is likely that a reversal to profit-maximisation will lead to lower

labour intensity.

As noted in the introduction, Shleifer and Summers (1988) have argued that a change in

ownership permits the new managers to renegotiate the implicit terms of employment of

existing workers. This, they suggest, leads to a "breach of trust" insofar as it violates

previous expectations attaching to the employees' implicit labour contracts. This behaviour

is likely to follow an acquisition - particularly a hostile one - for two principal reasons: first,

any managerial team that has successfully completed a hostile take-over would appear to

pose a credible threat in any confrontation with labour, a credibility which is enhanced where

debt used to effect the take-over raises the threat of bankruptcy; second, precisely because

the managerial team is new it has not developed ties to existing activities and employees in

the way that an established management would. Bhagat et al (1990) have reported that

hostile mergers do tend to be followed by job losses, particularly among white-collar

workers. Franks and Mayer (1996) confirm this association for the UK and argue that

friendly and hostile mergers are often differentiated by the incumbent management’s

opposition to further divestment.

3 Employment Determination

How should we think about modelling the impact of mergers on labour usage within the

firm? At its simplest, mergers and acquisitions may be represented as a change from one

optimal level of employment to the other. This is illustrated in figure one. In the company,

the pre-merger level of employment of the two firms is given by 1L and 2L respectively with

merger occurring at time t. If the production technology exhibits constant returns to scale

(CRTS, γ γ1 2 1+ = ) then (assuming no change to the price of relative factor prices) the

combined company should produce at a level of output and employment equal to the sum of

those of the individual firms. If on the other hand the technology exhibits increasing returns

to scale (IRTS, γ γ1 2 1+ > ) then the combined firm should be able to produce the combined

output of the individual firms using a smaller amount of total labour.

5

L1

L2

CRTS

IRTS

DRTS

t Time

Employment

adjustment path

L1

L2+

Figure One: Employment adjustment following a merger

If the optimal employment size is different to that of the two merging firms then an

adjustment in the labour force must take place. However, movement to this desired level of

employment is not instantaneous, and the firm will face a trade-off between the costs of

more rapid adjustment to the optimal employment level and the cost of being away from the

optimum. Bresson et al (1996) consider an output constrained firmv which faces quadratic

adjustment costs and has Cobb-Douglas technology, where tQ is production at time t, tK is

capital, and tL is the amount of labour used in the production process.

ttt LKaQ lnlnln 21 γγ ++= (1)

The firm’s problem may be characterised as minimising:

])(2

)(2

[1

1 22

1ττττττ

τ

τ++++++

∞

=

∆+∆++

+= ∑ tttttttt K

eL

dLWKC

rECOST t∀ (2)

subject to:

τττ +++ = ttt QLKg ),( τ∀ (3)

6

Where tE denotes an expectation formed at time t, tW is the wage rate, tC is the user-cost

of capital and r is the discount rate. Assuming rational expectations, an explicit solution to

these equations may be derived by taking linear approximations to the Euler equations in the

neighbourhood of the long run solution ( 0== de ). Using this procedure the optimal path

for employment is given by the expression:

∑∞

=+− −−+=

0

*1 )()1)(1(

ττ

ταµαµµµ ttt LLL (4)

Where *L is the desired level of employment. If changes in employment are small enough

from period to period then one can use the log approximation (where lower case denotes

variable in logs):

∑∞

=+− −−+=

0

*1 )()1)(1(

ττ

ταµαµµµ ttt lll (5)

The desired level of employment *τ+tl may be obtained by solution of the firm’s optimisation

problem in the absence of adjustment costs. In a static context, a profit-maximising firm will

employ labour and capital at such levels that the marginal revenue product of labour equals

the wage and the marginal revenue product of capital equals the user cost. This implies a

derived demand for labour of the following form, where the desired level of labour demand

depends on the expected production levels ( *τ+tq ) and on the expected labour to capital costs

ratio ( *)( τ+− tcw ):

( ) ττττ ε ++++ ++−+= tttt acwaqal 3*

2*

1* (6)

Hence the final equation in terms of observed variables is given byvi:

ttttttt fqqcwcwll εδδββα ++++−+−+= −−− 1101101 )()( (7)

Movement to the new equilibrium level may be monotonic or cyclical depending on the

parameter estimates obtained. A monotonic adjustment path is illustrated in figure one.

Note that in the empirical work individual data series are observed for both firms prior to the

merger and for the joint firm post merger. The series used in the data analysis apply to the

combined entity. This controls for the jump in employment that would be observed in the

7

employment of the acquiring firm and might be used to infer a spurious impact of merger on

labour usage.

Several augmentations are possible. Nickell (1984, 1986) shows that the dynamic lag

structure on employment may need to be increased if the adjustment process involves

altering the optimal employment mix between distinct categories of worker. Time dummies

τ+tD may additionally be included to account for changes in technological progress.

In the empirical, work allowance is made for the fact that mergers may change the efficiency

with which labour is used subsequent to the merger. The principal method used to control

for the impact of mergers and acquisition on employment levels is by the introduction of

dummy variables. For example, to allow for the fact that there might be differing

opportunities for rationalisation if mergers occur between firms in the same 2-digit industrial

sector than if they merge with firms in separate industries, the following regression was run

(model one):

itid

dd

itititititititit

ftIND

URqqwwll

επ

γγδδββα

++×+

++++++=

∑=

−−−

6

1

101101101

)((8)

Where Rit = 1 if firm i is involved in related merger activity at time t and 0 else; while Uit = 1

if firm i is involved in unrelated merger activity at time t and 0 else. ( )IND td × denotes the

interaction of industrial dummies (firms are grouped into six broad categories) and time

dummies that allows for differential employment growth between industries. Finally f is a

firm specific effect that reflects intra-firm differences in technology, management and the

user cost of capitalvii etc. and itε is an equation disturbance term.viii

To investigate the differential impact of hostile and friendly merger activity on employment

determination the following analogous regression was run (model two):

itid

dd

itititititititit

ftIND

FHqqwwll

επ

γγδδββα

++×+

++++++=

∑=

−−−

6

1

101101101

)((9)

Where Hit = 1 if firm i is involved in hostile merger activity at time t and 0 else; while Fit = 1

if firm i is involved in friendly merger activity at time t and 0 else.

8

Following the seminal work of Anderson and Hsiao (1982), one can secure consistent

estimates of the parameters of dynamic panel models with fixed effects by applying

appropriate instrumental variables techniques to the first differenced equationsix. Since the

disturbances of the first differenced models are correlated within firms by construction, a

generalised instrumental variables or a generalised method of moments estimation is

required.

.)(

6

1

101101101

itd

dd

itititititititit

tIND

URqqwwll

επ

γγδδββα

∆+×+

∆+∆+∆+∆+∆+∆+∆=∆

∑=

−−−

(10)

The γ’s in models 1 and 2 measure the contemporaneous merger effects. To examine the

lagged (dynamic) effects of merger activities some manipulation of the basic model is

required. In order to determine the effect on employment one period after merger, we can

substitute for 1−itl in equation (10) to give:

.+

)()(6

111110021

101021101022

itd

ddititititit

ititititititit

INDUURRq

qqwwwll

εαπαγγαγγαδ

αδδδαβαβββα

∆+∆+∆+∆+∆+∆+

∆++∆+∆+∆++∆+∆=∆

∑=

−−−

−−−−

(11)

The coefficient on 1−∆ itR will then measure the employment impact of a merger that

occurred in the previous period after controlling for all the other changes that have affected

firm employment in the current and last period.

Continuous substitution of the basic model may be used to study the lagged effects of any

dimension. In the final analysis, the following five first differenced versions of our models

are considered to identify the lagged effects of mergers on employment, for T=0….4.

.0

6

1 0

10

00

110

00

110

00

11

rit

T

r

r

ddd

T

r

r

rit

T

r

rrit

T

r

rrit

T

r

r

rit

T

r

rrit

T

r

rrit

T

r

rLit

Tit

IND

URq

qwwll

−== =

−=

−=

−−=

−=

−−=

−=

−−+

∆++

∆+∆+∆+

∆+∆+∆+∆=∆

∑∑∑

∑∑∑

∑∑∑

εαπα

γαγαδα

δαβαβαα

(12)

9

4 Database Construction and Sample Characteristics

The database used in this study is constructed from a variety of sources so as to be as

comprehensive as possible. The primary sources of information relating to mergers and

acquisitions were developed from the London Share Price Database (1975-96) and the

Cambridge/DTI Databank of Company Accounts (1967-77). These allowed the

identification of more than 1400 mergers and acquisitions made by some 1000 firms for the

period 1967-96. Take-overs involving foreign or nationalised companies were not

consideredx. Economic and financial data were collected by combining the Datastream on-

line service with the merger and acquisition database. Since our intention was to study the

employment effects of acquisitions via a dynamic labour demand model, we have screened

our sample for data availability on employment, wages and sales for at least three

consecutive yearsxi. This reduced the sample size to 442 potentially useful mergers made by

some 277 companies.

The mergers were then classified into related and unrelated depending on whether the

acquired and acquiring companies belonged to the same 2-digit SIC codexii. Table 1 gives

the frequency distribution of the acquisitions by year and by type, with Table Two showing

the industrial composition of the sample.

For a more limited time period (1983-96) it was also possible to classify 159 acquisitions

according to whether they were friendly or hostile using information obtained from

Acquisitions Monthly and The Financial Times.

An industry-stratified random sample of 298 firms was drawn from the population of firms

to act as a control group over the sample period. As with the sample of mergers, it was

required that the relevant economic information is available for at least three consecutive

years. Also, in order to guard against unrecorded acquisitions in the control group, firms

with an annual growth rate of total assets exceeding 100% were excluded. The balance of

the resulting panel is reported in Table Three, and a statistical comparison of acquirers and

controls is detailed in Table Four.

Tables five to seven give the results of some preliminary statistical analysis of the data. Table

five indicates that acquisitions tend to be undertaken by larger firms, with acquiring firms

being more than three times the size of those acquired. Acquiring firms also pay their

10

employees significantly higher wages with both of these effects particularly true in the case

of unrelated acquisitions. Finally, labour productivity also appears to be higher in firms

acquiring competitors in the same sector, which is not the case for related mergers.

Tables six and seven conduct a basic univariate analysis to examine the post-merger

trajectory of employment and output in the combined companies. This is achieved by

estimating equations of the form:xiii

itsits

s

jjitjsitsit MMyy ελδα +++= −

−

−∞=−−− ∑

1

1 (13)

where M stands for the appropriate merger dummies , y = {ln(employment), ln(output)} and

s = {0,1,2,3,4}. The λ’s gives the percentage growth in the relevant variables s years after

the mergers compared to the pre-merger values of the combined companies. The results

suggest very different outcomes depending on the type of merger considered, with the

employment of related acquisitions falling significantly post merger and approximately in

proportion to the fall in output. This implies that post merger output per worker is

approximately constant. In the case of hostile take-overs even larger employment falls are

noted and some gain in output per worker seems apparent. With friendly acquisitions

employment falls are both smaller and felt in the first year post acquisition.

Although these results are instructive of the changes in firm organisation that occur post

merger, they are essentially based on a univariate analysis. As such they do not control for

changes in wages or output which may occur post merger. They also do not allow for the

impact that changes in scale may have on the use of labour and as such they do not allow for

an assessment to be made of the efficiency inducing impact of acquisitions. The next section

discusses the result of estimating ceteris paribus derived labour demand functions.

5 Results

(a) Contemporaneous results

The results of estimating models one and two are summarised in Tables 8 and 9 respectively.

Column one reports the results for the full sample and subsequent columns split the sample

according to the size of the firm. Since consistency of parameter estimates requires the

11

absence of second order serial correlation, test statistics are provided, as are J-stats of

instrumental validity.

For all specifications the results yield point estimates which correspond to those predicted by

the dynamic theory of labour demand. Wage increases cause statistically significant

decreases in the levels of derived labour demand, both in the short run and in the long run,

and increases in sales cause the level of derived labour demand to increase. The positive and

significant coefficient on the lagged dependent variable additionally indicates that the

employment level exhibits inertia and wages and output have persistent effectsxiv. In all cases

the equations perform well statistically and instrumental validity and lack of second order

serial correlation cannot be rejected.

Turning to the impact of mergers and acquisitions on the demand for labour, Table Eight

indicates that there is a significant reduction in the use of labour post merger- amounting to

19% for related firms and 8% for unrelated mergers. This presumably reflects the differing

scope for rationalisations possible in the two situations. To analyse this effect further, Table

Eight disaggregates the sample according to firm size. This indicates that firms in the lower

half of the size distribution achieve efficiency gains at least twice those in the upper half,

both for related and unrelated acquisitions.

Table Nine indicates that hostile mergers also have a dramatic impact on derived labour

demand. Firms that have been involved in hostile acquisitions reduce their derived labour

demand by twice the amount of firms involved in friendly acquisitions. There appears

however to be a sharp distinction depending on whether or not the upper or lower half of the

size distribution is considered, with the impact of hostile acquisitions being concentrated

amongst larger firms and the impact of friendly acquisitions amongst smaller ones.

(b) Lagged effects

Since it is possible that the organisational impact of mergers on labour may not be felt

immediately Tables Ten and Eleven allow for the possibility that rationalisations in the use of

labour may continue to occur in years subsequent to the merger using the methodology

discussed earlier (see equation 12). Once again the results depend on the type of merger

considered. For related mergers there are persistent falls in labour usage for two years post

12

acquisition. Again this appears to be largely due to rationalisations in labour usage for firms

in the lower half of the size distribution.

Hostile mergers also have a continuing impact on efficiency post merger, with significant

falls in employment observed even in the fourth year after the merger for firms in the upper

half of the size distribution.

Finally, table eleven controls for the possibility that the ability to rationalise labour may

depend on the size of the merger being considered. A non-linear term is introduced into the

estimating equation such that smaller firms’ may adjust differentially to larger firms:

itid

dditit

itititititit

ftINDUR

qqwwll

επγγ

δδββα

++×+++

++++=

∑=

−−−

6

1

**1

**0

1101101

)((14)

Where, *itR =Rit * lit

* , and lit* denotes the combined size of the acquired and acquiring firm.

The results obtained give point estimates of similar magnitude to previously. They also serve

to confirm our earlier findings that related and hostile acquisitions have the largest negative

impact on labour usage.

(c) Other impacts of mergers on employment

The above discussion has been considering the impact of employment on the derived level of

labour demand. That is, we have been asking if, for a given level of output and wages, do

mergers induce efficiency effects in the use of labour? These results indicate that mergers do

indeed induce efficiency in the use of labour with this effect being particularly pronounced

for related and hostile acquisitions. The results are also indicative of there being substantial

efficiency effect variations across the sample, with smaller acquirers tending to show greater

labour demand falls than their larger counterparts. But, the basic statistical analysis also

indicated significant falls in output post-merger. This is consistent with the high levels of

post-merger voluntary divestment reported for large UK firms for this period by Haynes et al

(1997).

If divestment follows acquisition, a fuller investigation of the employment effects of the

latter would necessarily involve following up the second round consequences as divisions

and subsidiaries are disposed of. However, it would be extremely difficult to undertake such

13

an investigation: First, since the disposals are parts of firms rather than entire companies the

necessary information would be simply unavailable in many cases; Second, with the

exception of management buyouts, one company’s divestment is another company’s

acquisition such that tracing the employment consequences of merger becomes a problem of

infinite regress. In any event following up second and subsequent round effects is beyond the

scope of the present paper. This does mean, however, that overall assessments of the

employment consequences need to be treated as first round approximations.

The downsizing of merged firms through divestment could also impact upon the observed

efficiency of the retained parts of the business. Consider a post-merger conglomerate firm

undertaking a divestment: if inefficient operations were divested then we would observe

∆ ∆ln lnl Q> and so the conglomerate would appear to increase in efficiency and vice

versa. It is possible that this effect is being picked up in this paper’s results, although at this

stage we are unable to say whether firms divest themselves of their more successful

businesses, to raise greater cash flow, or their less successful to permit performance

improvements. Further analysis of this possibility remains for future work.

6 Conclusions

This paper has provided a systematic empirical analysis of the effects of take-over and

merger activity on firm employment in the United Kingdom, using a specially constructed

database for the period 1967-1996. It has distinguished between the effects of related versus

unrelated mergers and hostile versus friendly mergers. The paper finds that merger activity is

followed by substantial and statistically significant employment and output falls. It then

models the demand for labour across a large sample of acquiring and non-acquiring UK

firms using an unbalanced panel with first-differencing to remove firm-level fixed effects.

The paper finds that related and hostile merger activity is followed by large falls in labour

demand which, having controlled for output changes, may be interpreted as being consistent

with increased efficiency of labour utilisation. There is some evidence that smaller acquirers

make proportionately larger reductions in labour demand than their larger counterparts.

Whilst the results are generally consistent with the view that merger activity, particularly

related and hostile merger activity, promotes efficiency, two caveats should be added: First,

if the employment reductions observed constitute a reneging on the implicit terms of the

14

labour contract, in the sense of Shleifer and Summers (1988), there may be associated costs

generated through subsequent reductions in firm-specific human capital investment by

employees. This will manifest itself in lower output levels but any such changes would be

very hard to calculate.

Second, it was seen that both employment and output fell subsequent to an acquisition. It

was suggested that this was indicative of high levels of post-merger divestment, a

phenomenon much observed among large UK firms over the period. As we are unable to

observe employment and output changes in the divested units, it is not possible to be sure

that the merger process as a whole is labour-saving. However, it should be noted that

divestments essentially will fall into two categories, sales to existing firms and sales to new

companies created by management buyouts. In the former case, the divesting firm’s sale of a

subsidiary or division is also an acquisition for the third party and hence, ceteris paribus,

may be expected to produce similar results to the other take-overs evaluated here. In the

latter case there exists a growing body of theoretical and empirical evidence to suggest that

management buyouts are efficiency-promoting [e.g. Kaplan (1989)]. Therefore, while further

research to determine the full consequences of post-merger restructuring would clearly be

useful, our results remain indicative of substantial labour savings.

15

Table 1Frequency of studied mergers by year

Year Related Unrelated1967-69 19 461970-79 44 901980-89 69 941990-96 46 34

Total 178 264

Table 2

Industrial composition of sample firms

Industry Acquirers ControlsMineral Extraction 7 4General Manufacturing 141 181Consumer Goods 34 19Services 88 76Utilities 3 10Financials 4 8

Total 277 298

Table 3Balance of the panel

Number of time series Acquirers Controls3 – 6 57 547- 10 57 12511-16 141 10717-30 22 12Total 277 298

16

Table 4Summary statistics for acquirers and controls

Variables Acquirers Mean Within s.d Betweens.d

ControlsMean Within s.d Betweens.d

Levels

Employment 14229 8316 21857 3626 3125 13360 Wages/worker 10.87 3.23 4.36 10.66 1.88 4.37

Output/worker 73.31 51.9 107.6 68.18 45.6 85.0Growth rates Employment 4.99% .36 .16 3.07% .20 .11 Wages/worker 2.25% .17 .073 1.93% .17 .04 Output/worker 2.35% .21 .10 1.97% .19 .05

Note: s.d stands for standard deviations.

Table 5

Paired t-tests for acquiring and acquiredfirms a year prior to the mergers

Merger typeand variable

Acquiring Acquired p-value|difference| >0

Related

Employment 8984 2274 0 Wage rate 11.29 10.41 .005

Output/worker 73.12 67.02 .11Unrelated Employment 16231 2844 0 Wage rate 11.14 9.73 .001 Output/worker 75.48 76.39 .54

17

Table 6

Post merger % change in employment and outputRelated vs unrelated

Merger typeand variable

t+1 t+2 t+3 t+4

Related

Employment -10.3* -10.3* -11.4* -9.8* Output -10.5* -9.4* 11.9* -9.1*Unrelated Employment 2.8 1.2 0 0 Output 0 -2.9 -2.2 -3.4*

Table 7Post merger % change in employment and output

Friendly vs hostile

Merger typeand variable

t+1 t+2 t+3 t+4

Friendly

Employment -6.6* 0 -1.5 1.3 Output -5.8* 0 -2.1 1.7Hostile Employment -12.7* -21.1* -12.9* -16.7* Output -14.7* -15.2* -6.1 -10.3*

Notes:(i) The figures in the above tables refers to differences between the post-merger values of the acquiring

firms and the combined (acquired and acquiring) values of the respective variables one year priorto the mergers (i.e. t – 1)

(ii) (*) denotes significant differences (at 10% level) from the pre-merger values, where the standarderrors of the regression parameters are robust to arbitrary heteroscasticity and within-firm serialcorrelation.

18

Table 8Base specification Model One:

Dependent variable: employmentit

Independentvariables

Whole sample Lower half Upper half

employmentit −1.83 (4.24) .67 (5.39) .95 (2.16)

wagesit-.54 (3.82) -.58 (4.47) -.53 (2.19)

wagesit −1.47 (2.79) .46 (3.06) .43 (1.63)

outputit.72 (14.63) .72 (11.17) .71 (9.14)

outputit −1-.57 (3.11) -.38 (3.12) -.64 (1.73)

itlatedRe -.19 (4.20) -.29 (3.79) -.13 (2.21)

Unrelatedit-.08 (2.50) -.13 (1.37) -.07 (1.62)

Industry-timeDummies

JointlySignificant

JointlySignificant

JointlySignificant

No. of obs. 4430 2106 2324J-stat p-value .94 .86 .92R-squared 43% 49% 35%Serial correlation .81 .12 .43

Notes: (i) Estimation is by generalised instrumental variables regression after first differencing.(ii) The set of instrumental variable candidates include lag values of employment, output, wages and fixedassets.(iii) Absolute value of asymptotic t-ratios are in parentheses.

(iv) P-values for the validity of the set of instruments is defined as Prob(J-stat > χs2 ) , where s denotes is the

number of over-identifying instruments and J-stat is the IV minimand function evaluated at the parameterestimates.(v) R2 is defined as the squared correlation between the dependent variable and its predicted value.(vi) The serial correlation row gives p-values for the null of no serial correlation in the levels equations .The figures reinforce the results from the J-tests which confirm the global validity of the instruments.(vii) Lower and upper halves indicates below and above median employment observations.

19

Table 9Base specification

Dependent variable: employmentit

IndependentVariables

Sub-sample 1 Lower half Upper half

employmentit −1.88 (5.43) .79 (3.83) .62 (2.05)

wagesit-.78 (5.53) -.83 (10.91) -.71 (3.10)

wagesit −1.52 (3.23) .60 (3.35) .31 (1.59)

outputit.87 (21.00) .85 (17.87) .89 (14.17)

outputit −1-.71 (4.49) -.59 (3.09) -.51 (1.73)

itHostile -.17 (2.33) .21 (.91) -.16 (3.01)

Friendlyit-.09 (2.81) -.21 (3.36) -.03 (1.19)

Industry-timeDummies

JointlyInsignificant

JointlyInsignificant

JointlySignificant

No. of obs. 2218 1175 1043J-stat p-value .96 .91 .68R-squared 47% 48% 42%Serial correlation .82 .91 .51

20

Table 10Dynamics of merger effects on employment:

Percentage changes (and absolute values of asymptotic t-statistics)

Lag (0) Lag(1) Lag(2) Lag(3) Lag(4)SampleWhole sample Related -19.3 (4.20) -6.8 (2.91) -6.8 (2.15) -5.7 (1.58) -5.1 (1.47) Unrelated -8.4 (2.50) -1.4 (.59) 1.2 (.45) -3.3 (1.1) -1.2 (.36)Lower half Related - 29.2 (3.79) -20.8 (3.10) - 13.4

(2.20)-12.3 (1.80) -4.9 (.70)

Unrelated -13.2 (1.37) 4.6 (.61) -1.4 (.10) -12.4 (1.52) -11.3 (1.46)Upper half Related -12.9 (2.21) -4.79 (1.79) - 2.4 (.64) -1.9 (.44) -6.6 (1.89) Unrelated -6.7 (1.62) 0 (0.00) 0 (.10) -3.1 (.75) -3.1 (.89)

Sub-sample 1 Hostile -16.6 (2.33) -9.4 (2.40) -6.2 (1.29) -5.5 (1.21) -5.8 (1.16) Friendly -8.8 (2.810 -5.3 (2.20) 0 (0.00) -2.7 (1.11) -4.5 (1.47)Lower half Hostile 21.0 (.91) -1.0 (.04) 21.0 (1.44) .26 (2.13) 22 (1.75) Friendly -21.4 (3.36) -13.5 (2.20) -9.4 (1.39) -4.7 (.74) -10.6 (1.34)Upper half Hostile -15.7 (3.01) -7.4 (2.33) -9.9 (2.36) -12.9 (3.08) -11.7 (2.84) Friendly -3.1 (1.19) -1.5 (.69) 3.8 (1.27) -2.2 (.85) -1.9 (.77)

21

Table 11Dynamics of merger effects on employment allowing for the size of the acquiring firm.

Percentage changes (and absolute values of asymptotic t-statistics)

Lag (0) Lag(1) Lag(2) Lag(3) Lag(4)Sample Lower half Related - 28.7 (3.90) -21.4 (3.22) -13.1 (2.29) -7.5 (1.78) -4.2 (.65) Unrelated -14.9 (1.61) -7.2 (.94) -1.4 (.20) -11.6 (1.52) -10.2 (1.45) Upper half Related -11.5 (2.15) -4.7 (1.82) -2.8 (.85) -1.9 (.46) -6.5 (1.94) Unrelated -4.8 (1.73) -.7 (.37) -1.0 (.37) -2.9 (.75) -2.9 (.79)

Sub-sample 1 Lower half Hostile -19.1 (.84) -2.1 (.13) -21.3 (1.37) -25.2 (2.05) -23.7 (1.72) Friendly -22.3 (3.50) -14.0 (2.40) -9.1 (1.41) -4.2(.71) -9.4 (1.29) Upper half Hostile -15.6 (2.96) -6.8 (2.36) -9.7 (2.33) -9.7 (2.78) -10.7 (2.89) Friendly -2.7 (1.01) -1.8 (1.10) .3 (1.27) -3.6 (1.60) -1.8 (.69)

Note :(i) The above coefficients are obtained by evaluating the estimates from Model 2 at the mean values of

the relevant merger sizes.

22

References

Anderson T. and Hsiao C. (1982) ‘Formulation and estimation of dynamic models usingpanel data.’ Journal of Econometrics, 18, pp67-82.

Auerbach A.J. and Reishus D. (1987) ‘Taxes and the merger decision.’ In J.Coffee, LLowerstein and Susan Rose-Ackerman (eds.) Knight raiders and targets: the impactof hostile take-overs. Oxford University Press, Oxford.

Baltagi B.H. and Griffin J.M. (1997) ‘Pooled Estimators versus their HeterogeoeousCounterparts in the context of the Dynamic Demand for Gasoline', Journal ofEconometrics, 77, 303-327.

Bhagat S, Shleifer A. and Vishny R. (1990) ‘Hostile take-overs in the 1980s: the returns tocorporate specialisation.’ Brookings Papers: Microeconomics pp1-72.

Blair M (1995) ‘Ownership and control: Corporate Governance rethinking for the 21st

Century’. Brookings, Washington DCBresson G, Kramarz F and Sevestre P. (1996) ‘Dynamic Labour Demand Models.’ Chapter 9 in

Matyas, L. and P.Sevestre (eds.) "The Econometrics of Panel Data: Handbook of Theoryand Applications." Kluwer Academic Publishers. Dordrecht.

Brown C. and Medoff J.L (1988) ‘The impact of firm acquisition on Labor.’ In A.J.Auerbach (ed.) Corporate Take-overs: Causes and consequences. University ofChicago Press: London and Chicago, pp9-25.

Brusco S (1996) ‘Bankruptcy, take-overs and wage contracts.’ Journal of Economics andManagement Strategy, 5, pp515-34.

Cowling K (et al) (1980) ‘Mergers and economic performance.’ Cambridge UniversityPress.

Davis E. Shore G. and Thompson D. (1993) 'Continental Mergers are Different', inM.Bishop and J. Kay (eds.) European Mergers and Mergers Policy, OxfordUniversity Press.

Dutz M.A. (1989) ‘Horizontal mergers in declining industries.’ International Journal ofIndustrial Organisation, 7 (1), pp11-37.

Edwards,F.R. (1977) 'Managerial Objectives in Regulated Industries: Expense-PreferenceBehavior in Banking', JPE , 85 (1) 147-62

Franks J.R. and Mayer C (1996) ‘Hostile take-overs and the correction of managementfailure.’ Journal of Financial Economics, 40, pp163-181.

Greene W.H. (1993) Econometric Analysis, Macmillan.Haynes M, Thompson S and Wright M. (1997) ‘The determinants of corporate divestment

in the UK.’ Paper presented at European Economic Association Conference,Toulouse. Forthcoming in International Journal of Industrial Organisation, 1999.

Jensen M.C. (1986) ‘Agency costs of free cash flow, corporate finance and take-overs.’American Economic Review, Papers and Proceedings, 76 (2), pp323-329.

Jensen M.C. (1993) ‘The modern industrial revolution, exit and the failure of internal controlsystems.’ Journal of Finance, 48, pp831-880.

Kaplan S (1989) The Effects of Management Buyouts on Operations and Value, Journal ofFinancial Economics ,24, 217-54

23

Kay, J. and Silberston, A. (1995) 'Corporate Governance', National Institute EconomicReview,153 , 84-97

Lichtenberg F. and Seigel D. (1992) ‘Take-overs and corporate overhead.’ In Corporatetake-overs and productivity, F. Lichtenberg, ed., Cambridge, Massachusetts: TheMIT Press, pp45-67.

Manne, H.G. (1965) 'Mergers and the Market for Corporate Control', Journal of PoliticalEconomy, 73, 110-20

McGuckin R.H and Nguyen S.V. (1995) On productivity and plant ownership change: newevidence form the longitudinal research database.’ Rand Journal of Economics,26(2), pp257-76.

McGuckin R.H., Nguyen S.V. and Reznek A.P. (1995) ‘The impact of ownership change onemployment, wages and labor productivity in US manufacturing 1977-1987.’ Centerfor Economic Studies, US Bureau of the Census, 95-8, April.

Meeks G (1977) ‘Disappointing marriage: a study of the gains from merger.’ CUP,Cambridge.

Mueller D.C. (1969) ‘A theory of conglomerate mergers.’ Quarterly Journal of Economics,83, pp643-59.

Mueller D.C. (1977) ‘The effects of conglomerate mergers.’ Journal of Banking andFinance, 1, pp315-47.

Newbould G.D. (1970) ‘Management and Merger activity.’ Guthstead, Liverpool.Nickell S. (1984) ‘An investigation of the determinants of manufacturing employment in the

United Kingdom.’ Review of Economic Studies, vol. LI(4) no. 167 pp529-558.Nickell S (1986) ‘Dynamic models of labour demand.’ In O.Ashenfelter and R.Layard (eds.)

Handbook of labour economics, vol. 1, Amsterdam, North Holland.Nickell S, Wadwhwani S, Wall M 'Productivity growth in UK companies 1975-1986.'

European Economic Review, 1992, Vol.36, No.5, pp.1055-1085Pesaran M.H. and Smith R. (1995) ‘Estimating long run relationships from dynamic

heterogenous panels.’ Journal of Econometrics, 68, pp79-112.Shleiffer A. and Summers L (1988) ‘Breach of trust in hostile take overs.’ In Auerbach

(ed.) Corporate Take-overs: Causes and consequences. University of Chicago Press:London and Chicago.

Thompson, S. and Wright M. (1995) 'Corporate Governance: The Role of RestructuringTransactions', Economic Journal, 105, 690-703

Vander Vennet R. (1996) ‘The effects of mergers and acquisitions on the efficiency andprofitability of EC credit institutions.’ Journal of Banking and Finance, 20(9),pp1531-58.

Williamson, O.E. (1963) 'Managerial Discretion and Business Behavior', A.E.R, 53, 1032-57Williamson O. (1975) ‘Markets and Hierarchies: Analysis and antitrust implications.’ Free

Press, New York.

24

Data Appendix

Table A1: Variables definitions and sources

Variable Description Sourcel Total employment Datastream item 219

DTI item t134w Total employment cost Datastream item 215

DTI item t135q Total sales Datastream item 104

DTI item t127Merger year indicator LBS/DTI

Endnotesi The authors would like to acknowledge the financial support of the Economic and Social

Research Council under grant number R000221779.ii It is useful to distinguish between calls for the adoption of a more restrictive merger policy per

se - for example, one which shifts the burden of proof away from competition policy authorities

having to show that a merger is against the public interest to one which requires the merging

parties to demonstrate beneficial consequences - from proposals to alter corporate governance to

empower other "stakeholders" in such a way as to restrict the take-over mechanism: for example,

the reforms proposed by Kay and Silberston (1995) would make hostile take-overs: "virtually

impossible in practice". (p. 95)iii The different functions of merger activity across EU states are contrasted in Davis et al. (1993)

For a comparison of the role of exit and voice see Thompson and Wright (1995).iv For example, industrial organisation economists have generally found little improvement in

firm profitability post-merger (e.g. Meeks, 1977, and Cowling et al, 1980).v Note that other forms of labour demand function may be obtained depending on

assumptions made concerning the predetermination of output and the capital stock, and

assumptions made about the production and adjustment cost function. See Bresson et al

(1996) p664.vi Longer lags may be necessary for the exogenous variables depending on the precise

assumptions made regarding their evolution.vii The formulation adopted implicitly assumes that the difference between firms in the user

cost of capital is constant over time. Their influence may therefore be removed by first

differencing.

25

viii Sales replace real output/value added, as accounts data do not directly report the former.

See Nickell et al (1992) for a discussion of the use of this variable.ix Recently the fundamental assumption of pooling individual times series data has been

questioned by Pesaran and Smith (1995). Their basic argument is that since valid instruments

are hard to come by for heterogeneous dynamic panels, one is better off averaging

parameters from individual time series regressions. This is not feasible in our context on two

counts. Firstly the individual time series lengths are not adequate (95% of them have less

than 15 observations) and secondly comparison of acquiring and non acquiring firms

necessitate some sort of pooling. We have, however, performed our calculation for different

sub-samples and size groups, thereby minimising the potential hazard of heterogeneity.

Besides, we take comfort from a recent comparative study by Baltagi and Griffin [Journal of

Econometrics 77 (1997) 303-327)] which concluded that efficiency gain from pooling is

likely to more than offset the biases due to individual heterogeneity even with a moderately

large T.x Further details are available from the authors on request.xi We also excluded companies making multiple acquisitions in one year.xii For the DTI database we use the 1969 SIC code, whereas for the LBS database we

employed, depending on availability, both the 1980 and 1992 SIC codes obtained from

Datastream and the Office of National Statistics. For some acquisitions we also use the LBS

3-digit industrial grouping to determine the relatedness of the mergers.xiii Time and industrial dummies are included in these estimations.xiv The industry dummies indicate that general manufacturing and services have experienced

lower ceteris paribus employment growth than the mineral, consumer manufacturing, utilities

and finance sectors.